Down the Stretch

<July 21, 2026>

In sports, there is nothing quite like the Kentucky Derby. If you’re putting together a bucket list, we highly recommend visiting Churchill Downs on the first Saturday in May. 

While most gambling is simply gambling, betting on horses has an analytical side to it. In fact, selecting a horse has many similarities to investing in equities. Like an analyst evaluating a stock, successful handicapping requires poring over a tremendous amount of data in search of pricing anomalies.

Horse racing has favorites too. The crowds bet heavily on certain horses, driving down potential payouts or future returns. Then there are the long shots. They have little chance of winning, but if you’re right, the payoff can be huge. But if you want to consistently cash solid winning tickets, the key is finding a good horse with good odds.

Just as every horse race has a finish line, we continue to believe every market cycle does too. However, as the current cycle has aged, it’s hard not to wonder whether it will ever end. While it sometimes feels like we’re in the minority, we remain believers in market and economic cycles. That said, we acknowledge we can’t time cycles.

Not knowing when the cycle will end and valuations normalize can be frustrating, but that’s the reality for absolute return investors. At this stage of the cycle, our focus is on remaining disciplined by refusing to overpay, taking risk only when we are adequately compensated, and holding tightly to our ability to remain patient.

Although we can’t time market cycles, we can certainly identify catalysts that could bring this one to an end. Over the past several years, one catalyst that stood out above all others was inflation.

As we watched many of the businesses we follow consistently raise prices, it became increasingly clear to us that inflationary pressures were building throughout corporate America. With the Federal Reserve sitting on its hands even as price increases were being implemented, it seemed logical to expect the bond market to revolt and equity valuations to compress.  

While stocks declined in 2022, there was never enough panic or a sharp enough decline to suggest the cycle was over. Sure, the S&P 500 fell 18%, but it only gave back a portion of its nearly 29% gain in 2021. Since then, stocks have ripped higher for three consecutive years, with investors continuing to shrug off persistent above-target inflation.

We believe investors dismissed the risk of inflation because they concluded the Federal Reserve would never get serious about fighting it. In effect, a higher fed funds rate, not inflation, would prove to be transitory. Investors rightly recognized that the Fed was constrained by the U.S. government’s fiscal deficits and enormous debt load. Simply put, raising rates enough to defeat inflation would make financing the government’s debt too costly. 

We also believe the economy has become too dependent on asset inflation and loose financial conditions for the Federal Reserve to successfully contain inflation. Although Chairman Warsh appears more committed to sound monetary policy, he has not faced a severe market decline or meaningful tightening in financial conditions. We remember Chairman Powell expressing similar views before pivoting after the fourth quarter 2018 market selloff.

If Fed members were truly committed to defeating inflation, they would be raising rates and, at a minimum, ending the recent expansion of the Fed’s balance sheet. Instead, rates remain unchanged, and the Fed’s balance sheet has increased by approximately $200 billion since December 2025. 

Based on our bottom-up view, businesses continue to experience rising costs and are passing those costs on to their customers. Further, a growing number of companies we follow are targeting higher-income consumers and intentionally giving up volume by reducing promotions, raising prices, and focusing on higher-margin sales. In our view, these trends are not transitory. If anything, they appear to be gaining momentum. As such, we don’t expect inflation to subside anytime soon. However, we wouldn’t be surprised if investors continue to shrug it off as long as the Fed appears handcuffed by mounting fiscal liabilities and an unwillingness to endure meaningful market instability.

Although inflation continues to be ignored by equity investors, it has become a very important, if not the most important, issue for many Americans. Years of rising stock prices and persistent inflation have led to an affordability crisis and a glaring disparity in household net worth. 

In the race to identify the catalyst that ultimately ends the current market cycle, we believe wealth inequality has gained significant ground. We are increasingly seeing it show up in the operating results of the businesses we follow. And while we’re certainly not political experts, it also appears to be playing an important role in election outcomes.

As proponents of capitalism and free markets, we are not supporters of socialism. That said, we understand why many Americans feel frustrated, and possibly even short-changed, by an environment of asset inflation, rising consumer prices, and the growing inability to afford basic necessities. For middle and lower-income households, the feeling of being squeezed by rising costs is real.

While many investors have benefited tremendously from what has seemed like a perpetual bull market, watching others effortlessly reap substantial gains can breed discontent, especially if those gains appear to be supported by central bankers and achieved with relatively little perceived risk. We are all for free markets, risk-taking, and asset appreciation. But gains that begin to look like gifts from policymakers can be much harder for non-asset holders to swallow.  

With the midterm elections approaching, we believe investors and voters alike will pay closer attention to possible solutions aimed at addressing the affordability crisis and wealth inequality. Higher taxes, redistribution proposals, means testing, and many other ideas will likely all be on the table. Candidates pointing to the uneven distribution of growing household wealth will likely find a large audience nodding in agreement.

As the elections approach, will equity investors continue to dismiss the risks to their growing collection of unrealized gains? We’re not certain. But we believe every market cycle has a finish line, and one day stock prices will once again adequately compensate investors for the risks they assume. We can’t time markets. But to us, this cycle feels like it’s heading down the stretch.

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The horses are at the gate.

Welcome to the inaugural running of the End of the Cycle Derby. It’s a beautiful day, and twenty contenders are lined up, each hoping to be the catalyst that finally ends the current market cycle. Best of luck to investors and speculators alike.  

And they’re off! Inflation breaks sharply from the gate with Wealth Inequality right behind. Entering the first turn, Bond Market Revolt settles comfortably in third, with Valuations and AI Bust stalking the leaders.

Down the backstretch, Passive Flow Reversal inches closer, while King Dollar and Exhaustion are beginning to fade. Here comes Growing Equity Issuance, unexpectedly along the inside, with Carry Trades quietly advancing up the rail.

Around the far turn, the favorites begin to bunch up. Private Equity & Private Credit is boxed in. Leveraged ETFs & 0DTE Options show early speed but may have expired too soon. Housing Bubble 2.0 is mailing in the keys and fading fast.

Into the stretch they come! Bond Market Revolt is charging on the outside! Inflation refuses to yield! Wealth Inequality is still battling gamely and gaining ground on the leaders!

Oh my, what’s this? Asteroid comes out of nowhere! Falling from the sky! Asteroid! Asteroid! Asteroid wins the inaugural End of the Cycle Derby!

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Just as with so many market cycles before it, the catalyst that ends the bull market is often the one no one saw coming.

Eric Cinnamond

eric@palmvalleycapital.com

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Definitions:

S&P 500: (short for the Standard & Poor’s 500 Index) is a stock market index that tracks 500 of the largest publicly traded companies in the United States. It is widely considered one of the best indicators of the overall U.S. stock market and economy.

Wilshire 5000: a broad U.S. stock market index designed to measure the performance of virtually all publicly traded U.S. companies with readily available pricing data.

CPI (Consumer Price Index): is a measure of the average change over time in the prices paid by consumers for a representative basket of goods and services.

Passive Flows: money automatically invested into index funds and ETFs that buy stocks based on their index weight rather than on company fundamentals or valuation.

Carry Trades: Borrowing at low interest rates to invest in higher-return assets. When financing costs rise or markets become volatile, these positions can unwind rapidly and amplify market declines.

Leveraged ETFs: exchange-traded funds that use borrowed money and financial derivatives to amplify the daily returns of an underlying index or asset.

0DTE (Zero Days to Expiration) Options: Options contracts that expire on the same day they are traded.

King Dollar: A sustained rise in the value of the U.S. dollar relative to other currencies. A stronger dollar can tighten financial conditions, pressure corporate profits, and increase stress on borrowers around the world, making it a potential catalyst for market weakness.

Corporate Profit Reversion: The tendency for unusually high corporate profit margins and earnings to eventually return toward their long-term historical averages.

Fed Funds Rate: The interest rate banks charge one another for overnight loans of reserve balances. It is the Federal Reserve's primary policy rate and influences borrowing costs throughout the economy.